The deputy prime minister, Nick Clegg, has promised a "massive amplification" of state-backed investments in housing and infrastructure. Words only. But if the words mean anything, they amount to a huge U-turn – a belated acknowledgment that austerity has not brought recovery.

The realisation that austerity is having a dampening effect on economic activity has spread throughout Europe. Everyone has started to talk about policies for growth. This is a marked shift from the previous story which asserted that public austerity was the growth policy – that workers sacked from the bloated public sector would soon find employment in the more productive private sector. But no one in power has admitted that the previous story was wrong.

Instead the U-turn is disguised by claiming that it was only austerity that has given the British government the "credibility" to switch course. As Clegg put it, it is only because the markets "no longer have their foot on our throats" that the government can "use its balance sheet" to help revive private sector investment. This is discreditable nonsense. But it has an air of plausibility.

It is true that the government's deficit has fallen from 11% of GDP to 8.3% in the past two years. This may be counted as a minor success for the deficit reduction policy – though much less than the government promised. Most of it was achieved by cutting capital spending – the very spending Clegg promises to revive. Had this spending not been cut, the deficit would now be smaller, because the economy would be larger. Austerity has caused the economy to shrink, not grow.

It is not true, as Clegg claims, that the government faced a debt emergency when it came to office. Yes, it can now borrow at a couple of percentage points below the last government. But the Labour government's borrowing rate was already at its lowest for 10 years. To claim that but for George Osborne's austerity programme the cost of our government debt would have shot up to the Greek rate was sheer scare-mongering.

In any case, the reason why the British government can sell its bonds so cheaply today has much less to do with "confidence' induced by fiscal austerity than with Britain having a central bank licenced to print money, and with austerity having depressed other investment prospects so much that gilts remain the only place to park cash. Cheap money for the government is the sign of a sick, not healthy, economy.

The truth is that the chancellor could have avoided most of the deficit reduction pain and achieved a better deficit outcome had he started by making the critical distinction between current and capital spending. Instead of pledging to eliminate the whole deficit by the end of this parliament, he should have asserted that it was legitimate for the government to go on borrowing for capital spending. The reason is that government debt issued to finance a capital account deficit is not a claim on future tax revenues, since it adds to those revenues, both directly and indirectly. It is what every company does when it borrows to invest.

Osborne should also have said that in a slump it is especially necessary to keep government-backed capital spending going, as it is the only thing that can offset the dampening effect on private demand of the slump itself, and of cuts in current spending which might be necessary to reassure the markets. But that would have required a chancellor less viscerally hostile to public spending than is George Osborne, and a Treasury less trapped by false economic theory.

In Britain and Europe, policymakers are moving from a state of denying that their policies are wrong to one of cognitive dissonance – holding two contradictory theories simultaneously. The two theories are austerity and prosperity. This is a welcome sign of progress. Above it towers the peak of coherence. Drop austerity, go for growth and the debt will start to come down.